Get uncomfortable, this could take a while: James Saft

(James Saft is a Reuters columnist. The opinions expressed are his own)

By James Saft

LONDON (Reuters) - A housing market bubble of historic proportions is unwinding, raising the risk that the current period of poor economic growth in the United States could be measured in years not quarters.

While the first problems emerged in subprime lending, it has become clear that housing is falling across geographies, price categories and borrower types.

And with momentum now behind a fall, the implication is that the process will take a long time and destroy trillions of dollars of capital.

"It is such a big crisis that it is of historic importance," Yale economist Robert Shiller said in an interview at the World Economic Forum in Davos last week.

"It may represent a major turning point and we will see years of falling home prices and associated economic weakness."

Shiller, the originator of the Case-Shiller index of U.S. house prices, said house prices could fall by as much or more than they did in the 1930s, when an extended fall took them down by 25 percent in nominal terms.

They have fallen 6.7 percent in the year to November, according to the Case-Shiller measure.

Research by Shiller shows U.S. house prices were virtually unchanged in inflation adjusted terms between 1890 and the late 1990s, before rising a spectacular 71 percent on the same basis from 1997 to 2005.

The upshot is more write-downs for banks and an extended period when the U.S. and global economy are vulnerable.

If the more than $100 billion of bank write-downs from subprime have frozen credit markets and pushed the United States to a probable recession, it is hard to imagine what will happen if Shiller's scenario takes effect.

"It's trillions of dollars, so much bigger than the subprime losses we've seen already," he said.

It also implies a chance of a long period of grinding, slow growth, as house prices slowly reset downward.

Edward Leamer, of the UCLA Anderson business school, has done research showing that home owners resist selling into falling markets.

That means housing, unlike stocks, don't reset lower in short, sharp adjustments, but slowly, with low sales volumes.

Rising house prices drive consumption, as homeowners borrow against their houses' value or just spend more, content in the knowledge that their net worth is growing. Transactions are arguably even more important, as they produce work for lawyers, builders, bankers and a host of other people.

JINGLE MAIL, PLUMBING AND CONSUMER TROUBLES

A long and deep slide in house prices will undoubtedly drive defaults higher, as buyers with negative equity in their houses decide to transfer their pain to banks.

Known as "jingle mail," from the sound the envelopes make when defaulting homeowners mail the keys to the lender, such defaults were a phenomenon during the last real estate downturn in the 1990s.

The truly difficult thing is to see how an extended fall would interact with other issues to raise new problems.

A good example is the current plight of the monoline insurers, such as Ambac (ABK.N) and MBIA (MBI.N), which provide insurance against default on municipal bonds and structured debt.

While the subprime crisis hasn't made municipal bonds much worse credits, per se, it has eviscerated structured debt, prompting credit ratings cuts for some and leaving others in jeopardy.

Some money market funds have already begun to liquidate securities insured by struggling monolines ID:nN25349734. Some municipal issuers have seen their cost of borrowing increase by more than 40 percent in about a week.

If selling of municipal debt and other insured securities gathers pace, it would prompt another round of write-downs at banks whose balance sheets are already shaky.

More loan losses equal less lending, deepening the slowdown already underway.

It's all very circular and very self-reinforcing.

"The plumbing of the U.S. economy has been deeply damaged," former IMF chief economist and Harvard professor Kenneth Rogoff said in Davos.

So what's next?

If things go well, a longish period of slow growth probably including a brief recession is likely.

If, on the other hand, consumers decide it's a good time to drop the habits of a lifetime and start saving, watch out.

Consumers who don't consume mean workers who don't work.

Key warning signs will be what happens with other kinds of consumer debt outside of housing. Some banks have begun to reserve against more losses on auto loans and credit card debt.

Merrill Lynch chief executive John Thain, in as downbeat an analysis as I've ever heard from an investment banking head, has indicated that he was looking for just that.

"Unfortunately, I think there is more downside from mortgage and mortgage-related products," he said.

"The problems in the credit market are spreading, spreading to the consumer sector."

If he is right, neither the latest rate cut nor the upcoming round of fiscal stimulus will be the last.

(At the time of publication James Saft did not own any direct investments in securities mentioned in this article. He may be an owner indirectly as an investor in a fund.)

(Editing by Ruth Pitchford)